The R&D Tax Credit is a federal tax incentive (also available in many states) designed to promote innovation. It allows companies to receive tax credits for expenses incurred for research and development, thereby lowering their tax obligation and increasing funds for future innovation.
The R&D Tax Credit is often overlooked and misunderstood that most taxpayers and many tax preparers associate only with technology, biotechnology and pharmaceutical companies. Qualified activities do not necessarily need to result in new technological knowledge; they only need to involve the use of technological principles to develop new or improved products, processes, software, etc.
Examples of qualifying activities:
- Developing or testing new products or materials
- Developing new or enhanced formulations
- Testing new concepts
- Improving existing products
- Trial and error experimentation
- Design and analysis of prototypes or models
- Developing or improving production or manufacturing processes
- Developing, implementing or upgrading systems/software
- Paying outside consultants/contractors to perform any of these activities
Benefits of research and development tax credit
The R&D Tax Credit is one of the most significant tax incentives available to taxpayers. The benefits of this credit are numerous:
- The credit is generally equal to 13% of qualified costs and is a dollar for dollar match on both federal and state taxes owed.
- Businesses can claim R&D Tax Credits for all open tax years. For companies that are in a net operating loss (NOL) position, R&D Tax Credits are potentially available for additional years.
- Federal R&D Tax Credits can be carried forward for 20 years. Certain state credits have no expiration and can be carried forward indefinitely.
- Companies that claim the R&D Tax Credit see immediate earnings-per-share (EPS) and overall effective tax rate benefits.
Claiming R&D tax credits is not without risk. Oftentimes, it is subject to an IRS audit. It is critical that companies choose a R&D tax credit service provider with a proven process for calculating and documenting claims — and a proven track record of sustaining those claims upon audit.